How One Man's Ego Wrecked a Bank

By LESLIE WAYNE

Published: March 4, 1990

BOSTON—
It was the Christmas season and the Bank of New England was having a party. Gathered at the swank Meridien Hotel here, bank executives cheerily greeted prominent business people as they dined on hors d'oeuvres and kept their glasses filled. To the casual observer, it was a scene of glad tidings and seasonal bonhomie.

Back at headquarters, however, there was no cheer. Federal regulators had just combed through the books and, shocked by the widespread bad loans they had found, ''read the riot act,'' according to one insider. After four years of solid earnings, the bank was in a crisis. Top management's days were numbered and anxious directors, lawyers and investment bankers met around the clock. As they did, the bank's condition only worsened. The bad loans ''came in waves,'' said one insider. First, they were in the millions, then the billions. The fate of the bank hung by a thread. And it still does. ''What happened to Bank of New England is even worse than Texas,'' said Masaru Kakutani, an analyst with Moody's Investors Service Inc. ''There's a strong probability of their requiring Federal assistance.'' James Hanbury, an analyst with Wertheim Schroder & Company, added, ''The survival odds are 50-50. The company's got a sliver of capital and lots of bad loans.''

Indeed, a Texas-style financial disaster has come to New England and the wreckage is stunning. Thousands of Bank of New England employees are being let go. The bank's bond and stockholders have seen their investments dwindle to virtually nothing. And regional businesses complain they are being strangled by a credit crunch, brought on, in part, they say, by the chilling effect this episode has had on all lending in their area.

Ambition and Carelessness

The fall, so far and so fast, of such a pillar of the New England banking community is the tale of the overreaching drive, sloppy management and hubris of one man - Walter J. Connolly Jr., the bank's recently ousted chairman. A marketing whiz, Mr. Connolly came to Boston with the notion of creating the biggest and boldest bank in the region, and built the second largest, through costly acquisitions and aggressive real estate lending. Unfortunately, he did it at the expense of the basics of banking. As long as the so-called Massachusetts miracle heated the region, the bank's imprudent lending went unnoticed. But when the ''miracle'' ended, the Bank of New England tumbled like a house of cards.

Now, the survivors are left to sort through the rubble. Last week, the bank said it would name a new chairman to replace H. Ridgely Bullock, a board member who is serving in that post temporarily. The naming of Lawrence K. Fish, former president of the Columbia Savings and Loan Association in Beverly Hills, Calif., was openly discussed by bank insiders, but never announced. On Friday, the bank said an announcement is due ''shortly.'' Whether it is Mr. Bullock, Mr. Fish or another, the task ahead is daunting.

The bank, which announced that its losses for 1989 will reach $1.1 billion, agreed last Thursday to Federal cease-and-desist orders giving regulators broad oversight powers. Some $3 billion in deposits is expected to flow out in the coming months, the bank estimates, and it is frantically selling assets to raise cash and meet Federal capital rules. So far, some $3.7 billion in assets have been sold and nearly $4 billion more are on the block. The bank has also borrowed heavily from the Boston Federal Reserve Bank - some $1.6 billion last week alone. Nonperforming loans are now estimated at $2.3 billion. Such deep problems have the tightknit Boston banking community concerned. Federal regulators, wary of troubled real estate loans, have visited other area banks, most notably the Bank of Boston and the Shawmut National Bank Corporation. Regardless of the findings, bankers say, the Bank of New England debacle has tarred them all. It has already depressed their own shares, making it more difficult for them to raise capital and leaving them more vulnerable to takeovers.

''We're all in the same boat,'' said William M. Crozier Jr., president of BayBanks Inc. ''And they're rocking the boat. It would be better for the rest of us in the boat if they could just sit down.''

Mr. Connolly shook the boat from the start. The Connecticut banker came to Boston in 1985 and in four short years turned the sleepy $7 billion bank into a $31 billion giant poised to overtake the venerable Bank of Boston as the biggest. Boston, which traces its banking lineage to the Revolutionary War, never saw anything like it. ''There were all dry eyes when Connolly left town,'' said one leading Boston banker, who declined to be named.

Mr. Connolly, 61, has retreated to Cape Cod where, in a telephone interview last week, he blamed problems on the ''dramatic'' real estate downturn and ''more aggressive'' regulators. Speaking in halting phrases, he sounded almost apologetic: ''This was something nobody expected and I certainly regret. There are a lot of reasons why things have come to the point they have. A lot of us would have done things differently. Most troubling for me personally is the disruption and dislocations to so many people's lives.''

Such sensitivity was never Mr. Connolly's hallmark; in fact, words generally offered to describe him were ''arrogant'' and ''aggressive.''

Insatiable Appetite

On the way up, Mr. Connolly displayed an insatiable appetite for small banks and gobbled them at a pace - and price - that stunned bankers here. His drive even took him to the Supreme Court, which approved the 1985 merger of the Connecticut Bank and Trust Company, the Hartford-based bank he headed, and the Bank of New England.

This decision affirmed the constitutionality of regional interstate banking and set Mr. Connolly on a spree in which he snapped up 20 other banks, including the Worcester, Mass.-based Conifer Group at a record three-and-a-half times earnings, or $656 million. When the dust settled, his colossus ranked 18th in the nation.

Having spent so much, Mr. Connolly then embarked on a lending binge, particularly in the overheated real estate market, to get the high returns and big fees such loans provided.

''Walter Connolly had grandiose plans to grow the bank like crazy,'' said Mr. Hanbury of Wertheim Schroder. ''His acquisitions were too expensive, and that forced him to grow loans rapidly. The easiest was real estate, since developers borrow as long as banks lend.'' Nearly 38 percent of the bank's $25 billion portfolio was in real estate, more than any major New England lender.

Loan concentration wasn't the only problem; so was loan quality. Intense competition - from savings banks that had gone public, from savings and loans and from the region's other banks - pushed Mr. Connolly into increasingly marginal loans. Making matters worse, after assembling his empire, Mr. Connolly had little talent for managing it. Scant attention was paid to implementing controls over the disbursement of so much money.

''The quality of their loans was very poor,'' said H. Rodgin Cohen, a banking lawyer at Sullivan & Cromwell, in New York. ''They made loans other people turned down and there was pressure from on high to do so.''

Out of Their Depth

The bank was a model of decentralization - and, often, confusion. Mr. Connolly left decisions to local officers and small-town bankers were making big-city deals. ''Many officers knew how to make loans for banks much smaller,'' said one bank insider. ''They didn't always rise to the occasion.'' Said one lawyer close to the bank: ''They were throwing money out the window in an overheated market. It was without limits, appraisals or review. These were sloppy loans by not-astute bankers.''

Even Mr. Connolly now admits controls were lacking: ''Looking back, procedures could have been tighter.''

''Walter Connolly could run a $9 billion company,'' said James E. Moynihan, a senior vice president at Advest Inc., a Boston-based research firm. ''But he did not have the depth to run a $30 billion company. When you have a $30 billion bank with 17,000 employees, you can no longer run it on the buddy system.''

Behind this, however, was Mr. Connolly's ego; his desire to be the leader of a generation of New England bankers who occupied the top spots at rival banks. This group included Joel Alvord at Shawmut, who lived near Mr. Connolly in Hartford and played golf and tennis at the same clubs, and J. Terrence Murray, at Fleet/Norstar, who bid against Mr. Connolly for banks. And there was Ira Stepanian at the Bank of Boston, the pinnacle of the Brahmin establishment that stood as an ever-present challenge.

''The trouble began when Walter's ego got in the way and overwhelmed his business sense,'' said Thomas Finneran, chairman of the banking committee of the Massachusetts State Legislature. ''He didn't want to lose Conifer to Terry Murray, who was also bidding on it. So he paid too much. And he wanted in the worst way to pass the Bank of Boston. He was just a tough guy to cross, and he had a reputation of wiping out people who stood in his way. Ruthless was one word I heard more about him than about any other person I know. Utterly ruthless.''

Mr. Connolly's empire began to unravel last November when Federal examiners, concerned about the bank's exposure to a deteriorating real estate market, descended. Clearly, the bank was caught unawares. Just that September, it sold $200 million in bonds through Morgan Stanley & Company, offering a rosy picture to the Securities and Exchange Commission. (Today, those bonds are trading at 25 cents on the dollar.) In October, at least eight insiders, including the chief financial officer, bought bank shares by the thousands. Local Federal Reserve officials say they had warned the bank about declining real estate but, said one, ''the bank didn't believe us.''

On Nov. 27, in a Boston meeting with regulators, the bank agreed to set aside a $400 million reserve for bad loans. The first hint of trouble came the next day in a carefully worded news release saying a ''substantial'' reserve was set up.

A week later, a new group of Texas-hardened examiners, who had worked on the Mcorp banking collapse, arrived and a tougher tone sounded. Mr. Connolly and other executives were called to a meeting with regulators in Boston on Dec. 7 and told that the situation was out of control, that the regulators had never seen such terrible loans and that the survival of the bank was in question.

''To say everyone was surprised would be a masterpiece of understatement,'' said DeRoy C. Thomas, a board member and president of the ITT Corporation. Added Edward D. Herlihy, a lawyer at the New York-based firm of Wachtell, Lipton, Rosen & Katz, which represents the board: ''Between Nov. 22 and three weeks later, the whole world changed for Connolly and the bank because some guys from Texas came up and said Boston was another Houston.''

There was grumbling that regulators came down hard. But, in Washington, Dean S. Marriott, a senior deputy comptroller at the Comptroller of the Currency, bristles at such talk: ''The charge floating around New England is about our tougher standards. But we haven't changed. We have, however, brought more expertise from Texas to bear on Bank of New England and other banks.''

All-Night Sessions

Mr. Thomas took over running the bank from a stunned Mr. Connolly, who was shunted aside. Mr. Thomas set up board committees - to sell assets, find a new chairman and calm depositors. Investment bankers from Lazard Freres and Goldman Sachs began all-night sessions to learn the complexities of a big troubled bank and how to save it.

Merger discussions with Fleet/Norstar were held but halted by regulators who feared a healthy Fleet would be infected. Day-and-night talks were held with Citicorp to buy the credit-card division and the bank's Connecticut subsidiary. The City of Boston and other big depositors threatened to pull funds, and did. Equity capital sunk to a dangerously low 1 percent of assets.

And the bank had no money to cover some $180 million in commercial paper obligations coming due - which, if not paid, would cause bankruptcy. That was staved off by an 11th-hour tax refund rushed from the Internal Revenue Service. Insiders feared the bank might collapse, causing a run on all New England banks.

Meanwhile, the regulators kept finding more bad loans and by Dec. 21 laid down the law: Mr. Connolly, said to be in an ''absolute state of shock,'' would have to go. On Friday before Christmas, Mr. Connolly resigned.

Well-known bankers were approached, but declined the job. They included Richard Ravitch, who rescued the Bowery Savings Bank in New York; William J. McDonough, former vice chairman of the First Chicago Corporation, and John Terell, former president of the Manufacturers Hanover Corporation. (Mr. Bullock was named interim chairman on Jan. 26.)

'Here's the Keys'

By mid-January, weary bank representatives, worn down by the regulators, met again with Mr. Marriott, of the comptroller's office. To test whether the regulators wanted to take over the bank or let it work out its problems, Mr. Thomas issued a challenge. ''Here's the keys,'' he said. ''You take the bank.'' When Mr. Marriott demurred, the group got the sign they wanted.

Today, the bank is paddling fast. It has a string of asset sales under its belt, is luring depositors with mouth-watering interest rates and is waging an advertising campaign to win investor confidence.

As for Mr. Connolly, he said he's ''got a lot of thinking to do.'' He may only get two weeks' pay as severance from his employment contract, which had two years to go. Had the bank been sold during his final weeks, he would have gotten a $7 million golden parachute. As it is, however, he's left with little: Most of his net worth is in Bank of New England stock.

BILLIONS ON THE BLOCK

There's a great sale going on. It's of the Bank of New England.

Goldman, Sachs & Company and Lazard Freres & Company are aggressively peddling some $4 billion in bank assets. But some analysts and bank insiders worry that such massive sales will leave the bank with few income-generating assets for the future.

Right now, the bank is just trying to survive the next few months and bring its assets down to around $20 billion. This is so it will not be forced to borrow to meet reserve requirements backing its deposit obligations.

''Asset sales buy them time and get them to tomorrow,'' said Charles Peabody, an analyst with Kidder, Peabody & Company. ''The question is once the sales are done, where the bank stands as an operating entity and what will be left to generate operating income. But they have no choice.''

The bank sold its credit-card business to Citicorp for $828 million, a figure analysts say is top dollar. But it did not fare as well selling its BancNew England Leasing Group to the Bank of Tokyo. The Japanese had agreed to pay a $110 million premium for the group. But once the troubles arose, that came down to $92.5 million, of which $30 million is a note - not much-needed cash.

The bank is about to announce the sale of $1.3 billion in home equity loans; it has just agreed to sell $900 million in highly leveraged loans and is marketing residential mortgages, commercial loans and auto loans. It also sold $1.4 billion in municipal bonds and $450 million in leasing assets.

The trickiest sales may be of the subsidiary banks, especially Connecticut Bank and Trust, where Walter J. Connolly Jr., the bank's recently ousted chairman, got his start. So many good assets have been stripped from C.B.T. that potential buyers fear getting stuck with the bad. They worry also about C.B.T.'s real estate portfolio. In addition, Bank of New England debtholders must approve any C.B.T. sale and may well demand compensation to offset the loss of a subsidiary whose revenues stood behind their debt. These problems are so daunting that early suitors - Citicorp and Fleet/Norstar were among them - appear to have lost interest.

HECTIC DAYS AT NEW ENGLAND

It was pretty hectic at the Bank of New England last week. The bank almost got a new chairman, and it signed detailed agreements with Federal regulators setting a tight timetable to recover its financial health.

Word from well-placed sources at the bank began to leak out at midweek that Lawrence K. Fish, 45, would be named chairman. But by week's end, nothing was forthcoming from the bank.

If he is named, it would be something of a homecoming. Two years ago, Mr. Fish left the Bank of Boston, where he had worked for 16 years, to become president of the Columbia Savings and Loan Association in Beverly Hills, Calif.

His task was to reorganize the savings institution - which is plagued by massive losses in high-risk, high-yield ''junk bonds'' - along traditional banking lines. He left 17 months later, with both Columbia and Mr. Fish saying that his plan had eliminated his job and that his leaving was voluntary and not related to the institution's problems.

Analysts have described Mr. Fish as an aggressive and hard-working decision maker. At the Bank of Boston, he held a variety of overseas posts before becoming head of New England retail operations.

The agreement with Federal regulators includes such unusual provisions as allowing the regulators to review every bank officer at the level of senior vice president and above. It also sets out practices, already part of the regulatory review process, for proper lending procedures and real estate appraisals. And it bars the bank from paying dividends without Federal approval.

Photo: Former Bank of New England chairman Walter J. Connolly Jr., at Faneuil Hall in Boston (The New York Times/William E. Sauro) (pg. 1); Temporary chairman H. Ridgely Bullock; Lawrence Fish, the next Bank of New England chief? (The New York Times/Bart Bartholomew); graphs: assets and net income for bank of New England, 1983-1989 (Source: Bank of New England) (pg. 6); Graphic: ''At a Glance''